Laying Low ... on Pay

These days, many corporations worry about vast pay gaps across their workforces and are overhauling their rewards and compensation plans to close them. But, surprisingly, the one group that has almost no pay gap is the one that may get a new compensation plan.

According to the most recent statistic, director pay rose about 4% two years ago and another 2% one year ago. But more importantly, and oddly, the average difference across the Fortune 1000 was only a few thousand dollars, in most cases. And the reason is apparently well known: growing public scrutiny. “No one wants to be at the highest level for director pay,” says Patricia Connolly, executive director of the Raj and Kamla Gupta Governance Institute at Drexel University’s LeBow College of Business.

The increases are only a little more than raises for employees as a whole, but it’s a far cry from the larger gains many CEOs reaped last year. Still, there’s a movement to keep those director pay raises small and consistent across companies and industries. Under a formulaic approach, experts say, boards could set total director pay at the industry average—and stay farther out of the activist investor limelight. (Directors could get additional compensation based on company stock performance.)

Indeed, shareholders would likely approve both aspects of the plan. “There’s an awkward back-and-forth and a lot of angst directors and management go through in setting each other’s pay,” says Irv Becker, vice chairman of Korn Ferry’s Executive Pay and Governance practice. “This approach minimizes that discomfort and gives shareholders the ability to approve something they didn’t get to approve before.”

The system doesn’t address whether director pay is too high to begin with, but a system to automatically set pay levels based on specified rules should have some level of built-in support among both directors and shareholders. “People typically don’t take directorships for money,” says Becker. And this framework better aligns the interests of directors and shareholders than attempts to tie compensation to company performance, where other key performance indicators are murky and the potential to enrich, rather than curb, compensation is possible.

Of course, not every director is going to like this formulaic, mostly automatic approach. Directors now have to have expertise on cyberattacks, climate change, digital disruption, and other threats their organizations have never faced before. Directors have to work harder on complex issues, so perhaps they should be compensated more for it. “While the aim is to remove as much short-termism as possible, directors are still going to want to have their pay aligned with the job,” says Connolly.

Over the last two years, however, pressure from shareholders and the general public has shined a light on questionable pay practices not only among genders but also between management and labor. Directors, long immune to such pressure, have been sued over excessive pay. This year, the proxy advisory firm Institutional Shareholder Services will start making recommendations against the reelection of board members responsible for approving excessive non-executive director pay. With so much to lose, organizations may be less willing to deviate from the norm.

Becker says that organizations are not compelled to adopt a new approach because the median is the market. But, he adds, “That’s also a good reason to consider a new approach.”